Federal budget cuts cool Washington DC office market

Umair Shams

BIO

Umair Shams joined CBRE Econometric Advisors in 2007. He is responsible for producing the analysis and forecasts for the U.S. and Canadian Office products. Umair holds a Master of Science degree in International Economics from Suffolk University and a Bachelor of Science degree in Economics from the George Washington University.

Since its strong demand rebound in 2010, the Washington, D.C. office market has struggled. In the first half of 2012, federal government and private sector downsizing returned 2.7 million square feet (msf) to the market, which, along with completions exceeding 1 msf, pushed the vacancy rate to 14.7 per cent— lowering our two-year rent forecast to average annual declines of 0.4 per cent.

This downshift in fundamentals notwithstanding, D.C. remains a top target among institutional office investors -- 2012’s first half saw investments exceeding US$2 billion (though this represents a 40 per cent decline from the same period last year).

Meanwhile, plans to cut the federal budget deficit could impact the local economy and commercial properties in the near term. How D.C. has responded to such challenges in the past can indicate how severe cuts might affect today’s market. Clinton-era budget cuts saw D.C.’s federal jobs fall by 4 per cent and 3.3 per cent in 1994 and 1995, respectively. Meanwhile, federal jobs nationwide dropped by 1.6 per cent and 2.4 per cent. Washington’s office-using employment rose by 1.9 per cent and 5.5 per cent in those years, however, as its economy continued to grow. National office-using job growth was stronger (3.2per cent and 3.6 per cent), but D.C. demonstrated its ability to weather the deep cuts. Its office demand recovery at the time also underperformed, with net absorption rates of 1.2 per cent and 1.8 per cent versus the Sum of Markets’ 2.3 per cent and 1.9 per cent, but in the subsequent five years occupancy gains kept pace, with absorption averaging 3.3 per cent annually.

Over the next five years we expect D.C.’s historically above-average job growth to hew more closely to the nation’s, with annual local office-using job growth averaging 1.6 per cent, versus 2 per cent for the Sum of Markets. While D.C.'s high exposure to federal spending levels may today constitute downside risk, its educated labour force and diverse economy—based on sectors like information technology, education and biotechnology—are strengths.